Generally speaking, tax and liability drive the choice of entity.

Taxation

From a tax perspective, all of the entities except for C-Corps are known as "pass-through" entities, where any income and losses show up on the owners' tax returns. With a C-Corp, taxes are paid by the corporation itself, independent of the individual owners. If you anticipate huge tax losses early on, one of these pass-through entities can be desirable (unless you anticipate taking VC money soon). In some cases, you can even allocate the income and losses differently if you have one owner who can take advantage of the tax loss while the other does not. (There are limitations on the tax losses you can claim with a pass-through entity - the At-Risk rule and limitations of Passive Activity losses -  but these are not relevant for now. I'll try to discuss this more in-depth in a future post.)

Liability

Corporate forms can also provide liability shields. Partners are personally liable for any debts and torts of the partnership.  In a corporation (S-Corp or C-Corp) or LLC, the owners are not liable.  Obviously, the nature of the business is relevant here. If you are forming an entity to write a book (assuming libel is not an issue), then a simple 50/50 partnership under law (i.e., with no explicit agreement) may be ok. If you're manufacturing and selling a physical product, you want to be sure to choose a corporate form that shields liability.

Differences between the entities

Though the primary difference between an S-Corp and a C-Corp is the pass-through tax treatment, there are also limitations on availability and capital structure an S-Corp. An S-Corp is only available if there are less than 100 owners and no foreign owners. Additionally, an S-Corp can only issue one class of stock and cannot issue options.

Like an S-Corp, an LLC provides flow-through tax treatment and limited liability for the owners. The LLC form also brings more flexibility in that you can essentially put anything in the corporate charter, but this comes at a greater cost in negotiating the agreement (and since it's not standard may incur more legal costs in the long run if you want to change things).

A brief overview of the advantages and disadvantages of these three entity types:


C-Corp S-Corp LLC
Limited Liability yes yes yes
Pass-through tax no yes yes
Simplicity / Control yes yes no
Limitations on availability no yes no
Limitations on capital structure no yes no
Ability to take public yes sort of no
Flexibility in charter docs no no yes

Summary

If you're actively seeking VC funding (VCs will only invest in C-Corps) and don't anticipate significant tax losses (which is probably the case with many technical startups), then C-Corp is usually a good choice. If you want to take advantage of the pass-through taxation, Imke has a good discussion on choosing between an LLC and an S-Corp.  Partnerships are ok initially, but best avoided given the lack of a liability shield.

Disclaimer: it should go without saying, but this post is for informational purposes and should not be considered legal advice.


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